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•US Dollar Pares its Losses as the Imminent Release of NFPs Tempers Volatility
•Euro Little Encouraged by ECB's Decision to Hold Rates, Boost in Growth Forecasts
•Canadian Dollar will respond to Friday's NFPs and its Own Employment Data
•Yen, Commodity Bloc Await a Break in Risk Trends as Fundamental Pressure Builds

US Dollar Pares its Losses as the Imminent Release of NFPs Tempers Volatility
Though the dollar was put through its paces today with a notable, bullish swing that began before the US session open; the currency remains just as directionless as it has been for the past few weeks. However, this may come to an abrupt and dramatic end relatively soon. The world's most liquid currency has drifted in a holding pattern against most of its most liquid counterparts for nearly three months; and the fundamental and technical pressure behind the inevitable breakout has only grown with time. Conditions are ripe for a meaningful drive to develop behind the dollar and investor sentiment in general. Chart patterns are signaling a break out is long overdue, liquidity has thinned out ahead of the long US holiday weekend and the FX world's most market moving indicators is scheduled for release tomorrow. Yet, it is important to consider whether these are the ingredients for a short-lived breakout or the birth of a new trend - which is what market participants are really waiting for.

Everything that has happened with the dollar this week seems to be a build up to tomorrow's August non-farm payrolls release. This indicator has a distinguished history for the trading community. Though there are fluctuations in general market activity and there may be instances where a report was overlooked, the labor data is consistently rated among the most market moving economic releases. In fact, after last month's release, EURUSD dropped nearly 200 points in a matter of hours. Should we expect the same level of intensity from the August figures? There are a few factors working in favor of this being a volatile event: market depth is relatively shallow; the dollar has been restricted to an unnaturally tight range for the past two weeks; and there is a growing rivalry among the world's largest economies to generate the fastest and most momentous recovery among their peers. On the other hand, low liquidity also means a lack of follow through on new trends. And, lest we forget, we still need a meaningful impression from the data itself. Fundamental traders are certainly conscious of the diminishing trend in net job losses; so the forecasted 230,000 contraction would not require speculators to do much in the way of repositioning. Looking at rally from the greenback after the July data crossed the wires on August 7th, it was clear that the catalyst was the unexpected downtick in the unemployment rate. The headline payroll count can vary considerably and still fit within the past six month's trend; but further confirmation that the unemployment rate is leveling off would be a genuine surprise.

In mapping out the path to volatility, we shouldn't disregard the other meaningful economic milestones that will help forge the larger trends. Aside from the unchanged level of initial jobless claims through August 29th, we received measures of both service sector activity and retail spending. The ISM non-manufacturing report claims less of an impact than its factory counterpart; but it nevertheless accounts for a greater segment of the economy. The service industry accounts for an estimated 90 percent of business in the US; and so the 11-month high 48.4 reading for August is meaningful. Notable details from this report include the highest levels of employment and new orders since September. As for ICSC Chain Store Sales, consumer spending is seen clearly weighing on economic activity. The 2 percent contraction in the year through August was the smallest in 11 months; but this series has nonetheless held underwater since July of last year.

Related Article: What Should We Expect from NFPs Tomorrow?; A Strategy is Essential for Trading NFPs; Watch this Event Live!

Euro Little Encouraged by ECB's Decision to Hold Rates, Boost in Growth Forecasts
While collective focus may be on Friday's NFP report, today's most market moving data came off of the euro's docket. The ECB rate decision passed as expected. The central bank decided to keep the benchmark lending rate unchanged at its record low 1.00 percent for the fourth consecutive month. Yet, despite the stable overnight rate, the overall event was still influential. The fundamental sway was in the commentary that followed. Setting a neutral tone to the governing group's policy stance, President Jean Claude Trichet once again labeled the current level of rates appropriate and said there were no plans to raise the interest rate on its unlimited auction of 12-month funds. On the other hand, this shift to the middle hasn't necessarily led the market to seriously consider a cut to be the next policy action. Keeping a long-term hawkish forecast in place, the group raised their growth forecasts - the regional economy is expected to grow 0.2 percent through 2010 (forecasts called for a 0.3 percent contraction in June). Furthermore, Trichet later stated that policy was being made with an exit strategy in mind.

Canadian Dollar will respond to Friday's NFPs and its Own Employment Data
The Canadian economy is heavily influenced by the health of its largest trade partner (the US); but domestic factors are ultimately more influential. This creates an interesting situation for Friday. The US labor data is due at 8:30 EST; but the Canadian data will release a full hour-and-a-half beforehand. Therefore, if the Statistics Canada data should disappoint for volatility; we could still see significant action if the US reports point to a recovery or plunge in demand from the American consumer. Alternatively, surprises from both could produce significant chop or even a standout trend. Looking at the official consensus, the net change in employment for August is expected to be a 15,000 contraction - significantly better than the previous month, but the fourth net loss in so many months. Though, just like it is with the US data, the unemployment rate likely holds the greatest potential. The percentage of jobless unexpected held at the more than 11-year high 8.6 percent in July; but forecast once again call for a jump to 8.8 percent. Finally, we should also take note of the Ivey PMI business spending report due at 10:00 EST.

Yen, Commodity Bloc Await a Break in Risk Trends as Fundamental Pressure Builds
While there is a lot of economy-specific event risk tomorrow; the real trend behind the currency market is risk appetite. The congestion that has paralyzed the US dollar has also thwarted trends from the yen crosses, the Australian dollar, the New Zealand dollar and any other currency or pair that has a vested interest in investor sentiment. Measuring the boundaries of speculation is difficult; but it is safe to say the rebound in capital markets and yield expectations have surpassed fundamental reality. Recently, both the World Bank and OECD raised their forecasts for growth; but beyond a turn to positive expansion, the pace of the recovery is expected to be gradual and fragile. In the meantime, there is plenty of exposure to credit losses, ongoing bank failures or some other extraordinary market event.

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Written by: John Kicklighter, Currency Strategist for DailyFX.com
E-mail: jkicklighter@dailyfx.com